Can Capital-Skill Complementarity Explain the Rising Skill Premium in Developing Countries?Evidence from Peru

The factors behind the increase in the relative wages of skilled workers in developing countries are still not well understood. The authors use data from Peru to analyze the determinants of within-industry share of skilled workers. They use a translog cost function for gross output and are therefore able to incorporate the effects of materials, both domestic and imported, in addition to capital. The authors find that capital accumulation can explain a large fraction of the increase in the wage bill share and relative wages of skilled labor. This finding is contrary to the commonly held view that unobservable technological change is responsible for the rising skill premium in both developing and developed economies. A test for separability indicates that a gross output cost function is the appropriate one to use, and therefore share equations based on value-added cost functions could be misspecified.

The authors gratefully acknowledge the regional team of the Research Department at the Federal Reserve Bank of Atlanta. They also thank Stanley Black, Pat Conway, Alfred Field, and participants of the International/Development Seminar of the University of North Carolina at Chapel Hill for helpful comments. They appreciate the editorial comments of Lynne Anservitz and Tom Heintjes. They thank Sarah Dougherty for research assistance. The views expressed here are the authors’ and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors’ responsibility.